218 – The Swiss vote against corporate rip-off

On 2-3 March the Swiss voted on a “constitutional initiative” introducing changes in corporate governance. The voters obligate the legislative to create laws or rules within a substantive framework.

Here, the “constructive” mandate aims to put an end to “corporate rip-off” – instances where management is either over-rewarded for good performance or receives a “golden handshake” despite poor performance. The measure does not include “claw-back”: getting at past management for decisions that have subsequently ruined the firm

Some details of the intended legislation: The general assembly of a publicly traded corporation approves the global amount to be paid out in salaries and emoluments to management and board. Management and board are chosen yearly. Proxy-voting is restricted; electronic voting is allowed. Institutional shareholders (pension funds etc.) exercise their vote in the framework of their fiduciary responsibility and announce their intention publicly. Severance pay for management and board may no longer be agreed to in advance. Guidelines in the statutes set out incentive plans for management. All these measures intend to limit excessive salaries for top management and “sweet deals” among fat cats.

The vote was straightforward. 46% of the electorate participated. Two thirds of actual voters – and all the Swiss cantons – approved. The initiative is now part of the Swiss Constitution. The government creates the regulatory framework within eighteen months.

The measure addresses three core concerns of a market economy:

Economic theory forbids monopolies (and oligopolies where collusion limits competition) because they cause asymmetries. If the product is good, the monopolist can overcharge. If the product is defective, the client has no alternative. Head I win, tail you lose. Current culture sees managers as “unique”. This allows them to extract monopoly rents.

Economic theory forbids “asymmetries of information”. Sweet-heart deals and back-room pacts between management and institutional investors are no longer allowed.

Share ownership is diffuse nowadays. Rights are exercised by proxy – the bank holding the shares, or the investment fund, or the pension fund. The “default” position has been so far: vote with the management. This form of “nudging” grossly favors management: currently a shareholder may only propose change in person; but he is powerless against the “default block”.

Opponents of the measure argued: it is too constrictive. Parliament did not propose an alternative, however, though it could have done so and shown commitment. It gave a bland and generic promise to act in the spirit of the mandate. Voters showed their fear that Parliament (which has heavy representation of corporate interests within the Membership) might only make cosmetic changes in the law. A referendum may disallow a gutless law, but not improve it. In this instance, voters wanted to impose a framework for positive action.

Beyond the specifics of the vote, I’d like to say a couple of words about the use of referendums. For historical reasons, the voting rules in Switzerland favor minorities. Constitutional initiatives must garner a majority both nationwide and in the 26 cantons. Success depends on “over-majorities” of close to 60%. The rules protect small (and rural) mountain cantons from the power of the large and urban cantons in the plains. Things have changed, however. The small cantons are no longer rural – they have become suburban. Fat cats commute to the large towns from their homes in the mountains. The small cantons can become a fief of an oligarchy. This is gerrymandering of sorts.

The working of the Swiss system rests on a strong political culture. Four times à year voters go to the urns on federal, cantonal, and local matters. Some decisions are complex. Involvement in the vote reminds voters of their responsibility as they feel “empowered” by the act. It is a subtle educational process that yields long-term stability to a country which has linguistic, cultural, and religious diversity.

Direct democracy rests on the systematic use of the referendum. The occasional referendum, on the other hand, holds the substance hostage to the momentary popularity of the government.

There seems no compromise between direct and representative democracy. Does not the adage say: a woman cannot be “a bit” pregnant?